Why the empirical relationship between deficits and interest rates appears so fragile

Sun Young Kim, Raymond Eugene Lombra

Research output: Contribution to journalArticle

5 Scopus citations

Abstract

Some of the difficulties associated with empirical studies that attempt to estimate the relationship between deficits and interest rates are illuminated by focusing on the role played by expectations. Using a simple theoretical model of asset price determination with rational expectations, it is shown that a time-invariant relationship between the actual movements in interest rates and changes in the supply of government debt does not necessarily exist. Utilizing a rational expectations-efficient markets framework, the empirical evidence presented suggests (1) only previously unexpected changes in current or future government debt have a contemporaneous effect on interest rates, and (2) shifts in the stochastic process underlying the deficit complicate considerably the estimation of what in fact is unexpected at a moment in time.

Original languageEnglish (US)
Pages (from-to)241-251
Number of pages11
JournalJournal of Economics and Business
Volume41
Issue number3
DOIs
Publication statusPublished - Jan 1 1989

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All Science Journal Classification (ASJC) codes

  • Business, Management and Accounting(all)
  • Economics and Econometrics

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